Published June 2005

Property investments
are gaining new respect

In the late 1990s, an executive with a real estate investment trust in the Midwest addressed a group of prospective investors in Seattle to solicit interest in buying his trust’s stock.

The scene was classic — this conservative, button-down collar Midwestern real estate vice president in front of a crowd of mock turtleneck, dot-com, venture-fund type Seattleites, sporting trendy sideburns and plenty of hair gel.

He was struggling to paint the right picture at a time when returns for most of the attendees were in the 20 percent-plus range annually. His stock was boasting 11 percent with a diversified portfolio spread among exciting cities like Fargo, Sioux Falls, Billings and Omaha.

Recognizing the situation for what it was and perhaps acknowledging he had little to lose, he took a bold angle that just a few years later would make his words seem prophetic.

“Well. . . we’re no dot-com stock, that’s for sure.” There was dead silence. He went on, “We’re more like a good husband. We get up, go to work, and we come home every night.”

Needless to say, he scooped up very few investors on his dog-and-pony show in Seattle.

Six years and a dot-com crash and Enron scandal later, boring old real estate has still been getting up early, carrying its lunch pale to work and coming home for supper every night. Boring. Hard working. Blue collar. Like a good husband.

This less than sexy but more predictable outcome has attracted investor attention to real estate in recent years. Even making adjustments for some possible overinflation in values, real estate has still appreciated in most product and geographic sectors.

With little in the way of developable land left to satisfy demand, appreciation is virtually assured while the market moves to the densities that the growth management authors contemplated. “They just aren’t making any more of it” is a line that real estate investors often fall back on to explain their affinity for real property. That couldn’t be more true than in states like Washington, where the friction between what the market wants and where the authors of growth management want to see it heats up.

Condominium converters are a factor in the price inflation for apartment product, in particular. They are racing to buy properties that might be strong candidates to modify and sell as condominiums. Margins on sales are strong enough today that converters can pay more than a typical investor looking to hold their property as a rental despite a litigious environment that has driven many developers away from condominiums. This mini-bubble is driving prices for apartment product up to unprecedented levels while vacancy rates are only slowly creeping out of an occupancy malaise.

Sellers, however, aren’t cashing in as quickly as you would think. With so few properties for sale and other investment vehicles still not clearly out-performing real estate, where do they go with their profits from a sale? Consequently, few have been motivated to sell. This tightens up investment supply even more and further inflates values across the board.

In this hyper-competitive environment, something has to give. Based on buyer underwriting on income properties in the first two quarters, projected cash-on-cash returns have been anemic relative to expectations of just five years ago. The message is that buyers seem willing to give on cash flow if they can just get into the market. This contrasts to the real estate market maybe 15 years ago, when returns were a more balanced blend of cash flow and value appreciation. Today, value appreciation is more than 75 percent of the total return.

The fact is, there aren’t many real get-rich-quick real estate deals without a lot of risk. Real estate is, indeed, a little boring. But maybe that’s OK. Perhaps the lesson of the past five years is that being a little boring may be a virtue when picking a husband — or an investment.

Tom Hoban is CEO of Everett-based Coast Real Estate Services, a property management and real estate advisory company; call 425-339-3638 or e-mail tomhoban@coastmgt.com.

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